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Audit & Accounting Alert Newsletter

Issue 7 | August 2015

At-A-Glance

Gerry Herter

Breaking News Items: New Revenue Recognition Accounting Standard Delayed One Year; US Inventory Rules Eased

On July 22, 2015, the International Accounting Standards Board (IASB) matched an earlier decision by the Financial Accounting Standards Board (FASB) to delay the effective date for the new revenue recognition accounting standard by one year, to allow companies more time to prepare. The new effective date is January 1, 2018. Even so, companies should move ahead with preparations so that any problematic issues can be resolved in a timely manner. Both Boards are proposing clarifications to aid in the conversion process.

Also on July 22, 2015, the FASB issued a new accounting standards update, Simplifying the Measurement of Inventory, (ASU No. 2015-11), that will ease inventory valuation for US companies. The prior “lower of cost or market” provision has been streamlined to “lower of cost or net realizable value.” According to the ASU, “net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation.” This change also aligns treatment more closely with IFRS. Under the prior standard, market could be replacement cost, net realizable value, or net realizable value less an approximately normal profit margin. With several potential outcomes, the old standard was considered unnecessarily complex. The new ASU is generally effective in 2017.

With the new financial reporting standards in the United Kingdom, more companies are in the position of deciding whether to continue having financial statement audits or not. In the United States, concerns are increasing over whether financial statement audits can produce the results that are expected of them. Our first article explores the uneasiness that prevails on both sides of the Atlantic.

Success in keeping pace with rapidly changing technology stands to be a critical factor that will determine whether the audit function maintains relevance going forward. Our second article continues the Audit & Accounting Alert’s periodic series on emerging technologies, this time focusing on the Internet of Things.

Finally, there was a request for more information about the numerous organizations covered in our quarterly Worldwide Updates. The third article in this issue provides a summary reference guide.

Editor Gerald E. Herter, CPA

In This Issue 

Mixed Signals for Audits in the Future?

Different issues drive US and UK

Recent papers and discussions continue to call for more changes in financial statement audits, and in some cases for no audits at all in the future. While the British try to get comfortable with assurance reviews as an alternative, Americans seek more relevance and effectiveness in order for audits to remain viable in the long-term.

Now that the United Kingdom (UK) has increased the threshold for determining at what size a company is required to have an audit, many companies below that limit have a decision to make: whether to continue spending time and money on costly, complicated audits, or consider an assurance review.

The assurance review is relatively new in the UK, having just been introduced in 2006. This service is similar to the “review” in the United States (US), consisting mainly of analytic procedures and inquiries of management. Many financial statement users in the UK are wary of the service, which has been deemed by some as “audit-lite.” Others are just now aware of the review option and how it differs from an audit. Also, long-held traditions can be slow to change.

In the US, financial statement reviews were widely welcomed when first authorized way back in 1978. By clarifying more specifically at that time what a review entailed, confusion over the level of assurance given by the prior “unaudited financial statement” was lessened. The recent reform in the US review standards responded to calls for even further clarification. Even so, the review concept has proved to be a practical solution for smaller non-public companies. Lenders and other users have their own ways of gaining necessary assurance without the rigors of an audit.

Concerns still remain in the US over the failure of audits to head off fraud and failure. A recent Fortune magazine commentary even asked the question “Should companies eliminate audits?” To illustrate shortcomings, the article referred to a study published in the May 2015 Accounting Review, where only about 20% of over 650 companies with financial statement restatements had given investors any early warning about material control weaknesses. The study found no greater likelihood of penalties from the SEC when there were no disclosures of the weaknesses. Also, the Sarbanes-Oxley rules did not appear to provide an incentive for compliance. The article also referenced former SEC Chief Accountant Lynn Turner, who felt among other things that the “current accounting and auditing systems we all rely on need wholesale reform,” that there was significant intentional misrepresentation of earnings, that rules were set by those with most to gain, and that audit fees should be paid to the PCAOB rather than directly to the audit firm.

A widely different perspective was provided by Audit Analytics, a financial intelligence firm. Audit Analytics has been reporting annually on trends in financial statement restatements for the past fourteen years, since the Sarbanes-Oxley law went into effect. Their latest report, issued in April 2015, reported that the average income adjustment per restatement was the lowest in eight years, and that 59% of the restatements had no impact on earnings. Though the number of restatements by the largest companies (known as “accelerated filers”) had increased slightly from the prior year, the number of issues identified in the restatements remained low. Don Whalen, general counsel and director of research at Audit Analytics, was quoted by Tammy Whitehouse in Compliance Weekly as saying “What we’re seeing here is the positive effects of Sarbanes-Oxley Section 404 and internal controls.”

Despite the contrast in viewpoints, a survey by Deloitte found that more than two-thirds of the 250-plus financial statement users, audit committees and financial statement preparers queried “agree the audit profession is fundamental to maintaining confidence in capital markets.” They also generally felt that 1) Investors view audited information sources as much more important than unaudited sources such as social and traditional media, 2) the audit profession needs to be more proactive in addressing evolving demands, 3) auditors should provide assurance on information beyond traditional financial statements and 4) auditors should use advanced technologies more extensively. The next article in this Audit & Accounting Alert addresses this last issue as it pertains to technologies of the future. 

For further information, see Assurance reviews could be welcome filip but 'audit lite' concerns remain and Audit of the Future - Deloitte's latest survey results.


The Internet of Things

An evolving force for change in audit and accounting

The world of technology appears to change at a faster and faster pace, causing increasing concerns among those of us trying to cope. The trend confirms the fear foretold almost fifty years ago by Alvin Toffler in his seminal work, Future Shock: “too much change in too short a period of time.” Since the pace shows no sign of abating anytime soon, ongoing success may depend on a development plan that is flexible and resilient.

Recent issues of the Audit & Accounting Alert have touched on the emerging technological trends of Big Data (February 2015), Cybersecurity (March 2015), and Bitcoin (April 2015). Now we turn to the Internet of Things (IoT).

In a sense, the IoT does for physical devices what digital technology did for information. Through wireless technology, physical objects can be accessed, connected, monitored and operated. Examples are already pervasive around us, such as Fitbits and Apple Watches, as well as more mundane appliances, like stoves and refrigerators. Technology firm Gartner, Inc. forecasted that almost 5 billion IoT things will be connected this year, with that number growing to 25 billion by 2020. Gartner defines the IoT as “the network of dedicated physical objects (things) that contain embedded technology to sense or interact with their internal state or external environment. The IoT comprises an ecosystem that includes things, communication, applications and data analysis.”

For accountants and auditors, basic transactions of business are, or will be, conducted by the IoT. For example, monitoring devices on warehouse shelves can detect inventory levels and initiate purchase transactions to replenish supplies. Internal controls will be need to be designed and testing procedures structured, to address these features. The concept of continuous auditing will become a more prevalent technique to manage the IoT environment.

Artificial intelligence (AI) is a related IoT technology that can transform and even replace human functions in the audit. In a recent CFO.com article, Deloitte’s Chief Innovation Officer, Jon Raphael described automating the fundamental audit procedures for inventory counts and receivables confirmations, using smart phones, tablets and cognitive technology software applications, that enable faster and more accurate results. Two of the AI developments are natural language processing (NLP) and machine-learning technology. Raphael uses the example of a large volume of contracts where “natural language processing technology reads and understands key concepts in the documents, and machine-learning technology makes it possible to train the system on a set of sample contracts so that it learns how to identify and extract key terms.” Then the review and search for key or questionable elements can be completed at a high rate of speed.

Late last year, the AICPA-related CPA.com released a study, Welcome to the Fast Future...Insight Into the CPA of the Future 2015 Study, to assess the readiness of the CPA profession to address the rapidly approaching changes, and what more needs to be done to be ready. Acknowledging the danger in Toffler’s prediction of future shock, the study warns that “the sheer velocity of change requires rapid adoption and the ability to predict sooner than later what is coming.”

While the study also covers the changing workforce, globalization and changing CPA roles, the focus for this article is what the study refers to as “disruptive technology & innovation.” Examples of disruptive innovations of recent times are Netflix and Uber, which have transformed their industries. Key findings in the study were:

  1.  Only 8% of CPA’s think that the profession is future ready today;
  2.  10% of CPA firms view themselves as innovative; 82% recognize they need to better understand innovation;
  3.  80% of CPA’s indicated a need to better understand emerging technology trends;
  4.  58% of CPA’s agreed that it is important to create a culture of innovation and learning to succeed;
  5.  The CPA of the Future will use the Internet to deliver digital business processes to clients over the next five years;
  6.  Less than 20% of CPA’s believe that future disruptive innovations will be a driving influence in business by 2025.

Regarding the last item, the study expressed concern at the low percentage, stating “CPA’s do not fully recognize the role that disruptive innovation will play in business in the future.” The study lists the following as the top technology innovations for 2025:

  1.  3D Manufacturing;
  2.  Digital Money;
  3.  Smart Machines/Artificial Intelligence;
  4.  Internet of Things;
  5.  Digital Distribution.

The study also notes that these top technologies are already present to varying extents, so that CPA’s need to increase their awareness.

The implications of these advances are that the mundane accounting and audit tasks will be completed more efficiently and without human intervention. As has been the case in the past, with the industrial revolution and the advent of computers, jobs related to these tasks will be lost. Nevertheless, the accounting profession has been successful before in redirecting brainpower to more stimulating and beneficial endeavors, to replace tasks that are better performed by machines and/or technology. This time there can be a similar result, but only if the profession is nimble enough to keep up with the speed of future innovation.

For further information, see Welcome to the Fast Future...Insight Into the CPA of the Future 2015 Study and How Artificial Intelligence Can Boost Audit Quality and How the Internet of Things will impact CPAs.


List of Worldwide Accounting Organizations

Details of significant groups that impact the accounting profession

 A successful regional spring meeting was held by Integra International in Houston, Texas. In the Audit & Accounting Group session, San Diego member, Steve Austin, presented the accounting firm implications of Big Data and Predictive Analytics, while New Jersey member, Bill Murphy, gave an update on the new Revenue Accounting standard. The editor of this publication summarized accounting trends noted from the past three and a half years that the Audit & Accounting Alert has been published. When discussing the various organizations that generate accounting news, a request was made to develop a list that members could use as a reference for the many organizations. So here is our first rendition of that list.

International

IASBInternational Accounting Standards Board (www.ifrs.org)

Headquarters: London, United Kingdom

Purpose: Develop International Financial Reporting Standards (IFRS) that bring transparency, accountability and efficiency to financial markets around the world.

IFACInternational Federation of Accountants (www.ifac.org)

Headquarters: New York, NY, USA

Purpose: Global organization for the accountancy profession dedicated to serving the public interest by strengthening the profession and contributing to the development of strong international economies. Parent of the following Boards:

IAASB - International Auditing and Assurance Standards Board (www.iaasb.org)

Headquarters: New York, NY, USA

Purpose: Independent standard-setting body that serves the public interest by setting high- quality international standards for auditing, assurance, and other related standards, and by facilitating the convergence of international and national auditing and assurance standards.

IAESB - International Accounting Education Standards Board (www.iaesb.org)

Headquarters: New York, NY, USA

Purpose: Independent standard-setting body that serves the public interest by establishing standards in the area of professional accounting education that prescribe technical competence and professional skills, values, ethics, and attitudes.

IESBA- International Ethics Standards Board for Accountants  (www.ethicsboard.org/)

Headquarters: New York, NY, USA

Purpose: Independent standard-setting body that serves the public interest by setting robust, internationally appropriate ethics standards, including auditor independence requirements, for professional accountants worldwide.

IPSASB - International Public Sector Accounting Standards Board (www.ipsasb.org/)

Headquarters: New York, NY, USA

Purpose: Develops International Public Sector Accounting Standards (IPSAS), accrual-based standards used for the preparation of general purpose financial statements by governments and other public sector entities around the world.

ACCA Association of Chartered Certified Accountants (www.accaglobal.com/)

Headquarters: Glasgow, United Kingdom

Purpose: Global body for professional accountants offering business-relevant, first-choice qualifications, to people of application, ability and ambition around the world who seek a rewarding career in accountancy, finance and management.

CIMAChartered Institute of Management Accountants (www.cimaglobal.com)

Headquarters: London, United Kingdom

Purpose: Global body of management accountants, supporting and giving voice to Chartered Global Management Accountants (CGMAs) across the globe, helping people and businesses to succeed by harnessing the full power of management accounting, providing continuing professional development services, funding academic research, developing thought leadership, maintaining a code of ethics for members and monitoring professional standards.

IIRC - International Integrated Reporting Council (www.theiirc.org)

Headquarters: London, United Kingdom

Purpose: Global coalition of regulators, investors, companies, standard setters, the accounting profession and NGOs, formed to establish integrated reporting and thinking within mainstream business practice as the norm in the public and private sectors.

Africa, Europe, India, and the Middle East (AEIME)

EFRAGEuropean Financial Reporting Advisory Group (www.efrag.org)

Headquarters: Brussels, Belgium

Purpose: Provide input into the development of IFRS issued by the IASB and to provide the European Commission with technical expertise and advice on accounting matters.

FRCFinancial Reporting Council of the UK (www.frc.org.uk)

Headquarters: London, United Kingdom

Purpose: UK’s independent regulator responsible for promoting high quality corporate governance and reporting to foster investment, by promoting high standards of corporate governance through the UK Corporate Governance Code, and by setting standards for corporate reporting, audit and actuarial practice, monitoring and enforcing accounting and auditing standards. The FRC also oversees the regulatory activities of the actuarial profession and the professional accountancy bodies and operates independent disciplinary arrangements for public interest cases involving accountants and actuaries.

EC European Commission (www.ec.europa.eu/index_en.htm)

Headquarters: Brussels, Belgium

Purpose: The executive body of the European Union (EU), proposes legislation for adoption by the European Parliament (EP), enforces European law, sets objectives and priorities, manages and implements EU policies and budget, and represents the EU outside Europe.

EPEuropean Parliament (www.europarl.europa.eu/)

Headquarters: Brussels, Belgium

Purpose: Directly elected by the member states, adopts and amends legislative proposals along with the European Council, decides on the EU budget, supervises the EC, and cooperates with the member national parliaments to get their input.

Americas, Asia, Australia and New Zealand (AAANZ)

FAFFinancial Accounting Foundation (www.accountingfoundation.org)

Headquarters: Norfolk, Connecticut, USA

Purpose: Establish and improve financial accounting and reporting standards in the USA; educate constituents about those standards; select the members of the standard-setting Boards and Advisory Councils; oversee, administer, and finance its standard-setting Boards and their Advisory Councils; and protect the independence and integrity of the standard-setting process. Parent of the following Boards and Council:

FASBFinancial Accounting Standards Board (www.fasb.org)

Headquarters: Norfolk, Connecticut, USA

Purpose: Establish and improve standards of financial accounting and reporting that foster financial reporting by nongovernmental entities in the USA, that provide decision-useful information to investors and other users of financial reports.

GASB Governmental Accounting Standards Board (www.gasb.org)

Headquarters: Norfolk, Connecticut, USA

Purpose: Establish and improve standards of state and local governmental accounting and financial reporting that will result in useful information for users of financial reports, and guide and educate the public, including issuers, auditors, and users of those financial reports.

PCCPrivate Company Council (www.fasb.org/pcc)

Headquarters: Norfolk, Connecticut, USA

Purpose: Review and propose for endorsement by the FASB, alternatives within U.S. GAAP to address the needs of users of private company financial statements, and serve as the primary advisory body to the FASB on the appropriate treatment for private companies for items under active consideration on the FASB’s technical agenda.

AICPAAmerican Institute of Certified Public Accountants (www.aicpa.org)

Headquarters: Durham, North Carolina, USA

Purpose: Represents the CPA profession in the USA regarding rule-making and standard-setting, serves as an advocate before legislative bodies, public interest groups and other professional organizations, develops standards for audits of private companies and other services by CPAs; provides educational guidance materials to its members; develops and grades the Uniform CPA Examination; and monitors and enforces compliance with the profession’s technical and ethical standards. Parent of various boards and committees, including:

ASB - Auditing Standards Board (www.aicpa.org/Research/Standards/AuditAttest/ASB/Pages/AuditingStandardsBoard.aspx)

Headquarters: New York, NY, USA

Purpose: Senior committee of the AICPA designated to develop, update and communicate comprehensive standards and practice guidance that enable practitioners to provide high-quality, objective audit and attestation services to nonissuers (non-public entities).

PCAOBPublic Company Accounting Oversight Board (www.pcaob.org)

Headquarters: Washington, DC, USA

Purpose: Established by the US Congress to oversee the audits of public companies in order to protect the interests of investors and further the public interest in the preparation of informative, accurate and independent audit reports.

SASBSustainability Accounting Standards Board (www.sasb.org)

Headquarters: San Francisco, CA, USA

Purpose: Develop and disseminate sustainability accounting standards that help public corporations disclose material, decision-useful information to investors.

SECU.S. Securities and Exchange Commission (www.sec.gov)

Headquarters: Washington, DC, USA

Purpose: US authority to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.

COSO - The Committee of Sponsoring Organizations of the Treadway Commission (www.coso.org)

Headquarters: Online

Purpose: Provide thought leadership through the development of comprehensive frameworks and guidance on enterprise risk management, internal control and fraud deterrence, designed to improve organizational performance and governance and to reduce the extent of fraud in organizations.

CPA AustraliaCPA Australia - (www.cpaaustralia.com.au)

Headquarters: Melbourne, Australia

Purpose: Represents the CPA profession in Australia, providing education, training, technical support and advocacy, working with local and international bodies to represent the views and concerns of the profession to governments, regulators, industries, academia and the general public.

CSA - Canadian Securities Administrators (www.osc.gov.on.ca)

Headquarters: Montreal, QC, Canada

Purpose: Canadian authority to improve, coordinate and harmonize regulation of the Canadian capital markets.

BACBusiness Accounting Council of Japan’s Financial Services Agency (www.fsa.go.jp/en/refer/councils/singie_kigyou/kai2e.html)

Headquarters: Tokyo, Japan

Purpose: Advisory body on accounting standards to Japan’s regulatory Financial Services Agency.

 


Additional A&A News 

The following links provide a selection of current articles devoted to highlighting other A&A topics currently making news.

  1. Mandatory audit rotation big threat to scepticism, say academics
  2. IAASB completes amendments to auditing standards focused on disclosures
  3. What the Delay of FASB’s Revenue Recognition Standard Means
  4. IFAC Sees Validation on Strategy and Activities
  5. The blockchain and financial markets
  6. IFRS Foundation Reconsiders Structure and Effectiveness

Audit & Accounting Alert is a publication of Integra International intended to highlight emerging issues in the profession. The goal is to give Integra members an awareness of developments impacting the practice of Audit & Accounting, enabling them to stay on the forefront of industry trends.

Editor Gerald E. Herter  •  HMWC CPAs & Business Advisors, 17501 E. 17th Street, Suite 100, Tustin, CA 92780-7924
 •  Tel: 1 714 505-9000  •  Fax: 1 714 505-9200  •  Email: gerry@hmwccpa.com